What's a Good Excuse?

This article appears in the May/June 2014 issue of Business Franchise Australia & New Zealand

In the food and beverage industry, where recipes and the quality of the product can be crucial due to customer demand that any food or beverage taste the same no matter at which franchise store it is purchased, exclusive supply arrangements are common, and often necessary for the success of the franchise.

In the last edition of Business Franchise Australia & New ZealandDr Michael Schaper, Deputy Chairman of the ACCC discussed these exclusive supply arrangements and the ACCC’s role in granting protection from prosecution where the arrangements would otherwise breach the Competition & Consumer Act 2010 (‘the Act’).

In this article we look at the process in a little more detail, and explore examples of arrangements that have been approved and rejected.

A brief recap

In general, if a franchisor requires a franchisee to:

• purchase goods or services from a particular third party (‘third line forcing’); or• purchase goods or services from the franchisor itself (‘full line forcing’);

there will be a breach of the Act even if the conduct will not harm competition.

However, if the franchisor formally ‘notifies’ the ACCC of the proposed restriction, it will enjoy immunity from legal action unless the ACCC opposes the notification, or revokes it at a later point in time.

The guide notes that whilst the ACCC may receive complaints from franchisees concerning exclusive arrangements (especially concerning the price of supply of goods), it is required to consider the public benefits of the supplier arrangements as a whole, and those public benefits will usually outweigh any detriment to the franchisee.

The guide also provides a general overview of rebates, and how they are relevant to the ACCC consideration of any notification received.

Given the ACCC is particularly concerned with supplier arrangements that lessen competition, any assessment of a notification involves a consideration of whether there has been a real effect on the competition in the market for a particular product, whether the particular goods or services can be provided by another party, and of course, the industry in which the franchise operates.

In respect to full line forcing in the food industry, it is rare that ACCC will challenge a notification received from the franchisor concerning a product involving an industry secret, such as a recipe. Disputes between franchisees and franchisors in those circumstances are also less likely given the general acceptance of trade secrets by franchisees.

The notification process

A franchisor that wants to enter into a franchise agreement that contains terms that amount to full or third line forcing, and which may be prohibited by the Act, makes a notification by preparing and lodging with the ACCC a document ( a ‘notice’) in the form prescribed by the Act.

The notice:

• describes the arrangements;• identifies the number of persons or classes of persons likely to be affected;• identifies the relevant market; and• sets out the public benefits and public detriments that are likely to arise from the conduct.

Once a notice is lodged with the ACCC, statutory protection from legal action for engaging in first or third line forcing conduct will commence after 14 days unless the ACCC takes steps to oppose the protection of the conduct in the interim. The ACCC can only remove the protection from legal action if it is satisfied that the likely public benefits will not outweigh the likely public detriments from the conduct. The ACCC can revoke the protection given by a notification at any time if it is satisfied that the balance has changed. In 2013, there were no notifications

revoked, and only 1 notification withdrawn. So far in 2014, there have been no notifications revoked and none withdrawn. These statistics clearly indicate that unless there is a severe imbalance between public detriment and benefit, the ACCC will not challenge a notification.

Examples

Big Boy BBQ Franchising Pty Ltd

Big Boy BBQ Franchising Pty Ltd is the franchisor of Big Boy BBQ takeaway and casual dining restaurants. The restaurants provide slow cooked American style BBQ foods. Big Boy BBQ Franchising lodged a third line forcing notification with the ACCC in August 2013.

As a condition of granting a franchise, Big Boy BBQ Franchising proposed to require franchisees to use and sell only products sourced from suppliers approved by Big Boy BBQ Franchising on terms and conditions negotiated between Big Boy BBQ Franchising and the approved suppliers.

Big Boy BBQ Franchising argued in support of its notification that the proposed arrangements would enhance the capacity of franchisees, as small businesses, to compete with larger businesses and other competitors; maintain the quality and consistency of their product; promote costs savings and assist in maintaining competitive prices; promote business efficiency; and provide approved suppliers with certainty in terms of frequency and volume of supply thus leading to reduction in the cost price of the approved products.

The ACCC resolved not to take any action to oppose the conferral of legal protection on the basis that Big Boy BBQ Franchising Pty Ltd would disclose all relevant terms and conditions to current and prospective franchisee in compliance with the Franchising Code of Conduct, including as to whether any rebate or other financial benefit would be received by the franchisor from approved suppliers.

Mad Mex Franchising Pty Ltd

Mad Mex Franchising Pty Ltd is the franchisor of the Mad Mex Fresh Mexican Grill restaurant system. It lodged several third line forcing notifications with the ACCC in October 2013. One was in relation to beverages.

As a condition of granting a franchise, Mad Mex required franchisees to purchase certain alcoholic beverages only from suppliers approved by Mad Mex, and prohibited franchisees from using alternative products in substitution for those alcoholic beverages.

Mad Mex argued in support of its notification that the conduct would provide Mad Mex franchisees with consistency of quality of products across all the Mad Mex restaurants; there would be a consistent ‘look and feel’ across the restaurants; the buying power of the Mad Mex group to negotiate favourable arrangements would be consolidated; customers would benefit from consistency of quality between Mad Mex restaurants; customers would be able to purchase the products as advertised; and the Mad Mex franchise network would acquire competitive advantages enabling franchisees to compete with other food and beverage retail outlets, thereby increasing competition in the market.

The ACCC resolved not to take any action to oppose the conferral of legal protection on the basis that Mad Mex would disclose all relevant terms and conditions to current and prospective franchisees in compliance with the Franchising Code of Conduct, including in relation to rebates or other financial benefits that might be received by the franchisor from approved suppliers.

Seal -A-Fridge Pty Ltd

Seal-A-Fridge Pty Ltd lodged both full and third line notifications with the ACCC in 2006 in which Seal-A-Fridge proposed to require its franchisee to acquire PVC extrusion and flexible magnet products from either Seal-A-Fridge or approved suppliers.

In support of its application, Seal-A-Fridge submitted that this arrangement would enable Seal-A-Fridge to obtain volume discounts on the cost price from suppliers which could be passed on to franchisees and the public; that warranty claims and product recalls could be better controlled; and consistency of quality across its franchise network could more easily be maintained, amongst other reasons.

The ACCC rejected the notification, noting that the requirement was to be introduced after the relevant franchise agreements had been entered, and that the arrangements had not been supported by a significant number of franchisees. The ACCC also considered that the proposed arrangement might cause a decline in the quality and timeliness of supply of the products rather than promote a consistently high quality.

Conclusion

Franchisees generally have little say in the consideration the ACCC gives to the notifications it receives, and revocations are rare. The ACCC will only remove protection if it believes that the public detriment arising from full or third line forcing arrangements outweighs the public benefit. Any decision is based on the impact of the exclusive dealing on the entire community, and not just on the franchisees. However, as we have seen in the examples given above, the ACCC’s decision not to revoke protection is always conditional on the franchisor complying with the provisions of the Franchising Code of Conduct as to disclosure of the arrangement in question. This is particularly relevant as the ACCC announced in October 2013, that it will be conducting an audit of the take-away food industry (and the fitness industry) to ensure that the franchisors have been complying with the Franchising Code of Conduct.

The audit will include a review of franchisor’s franchise agreements, disclosure documents and other information given to current and future franchisees. Any franchisor that has not provided the disclosure on which an ACCC notification decision has been based may find that its notification is the subject of a revocation, and consequent legal action.

Bartier Perry is an established and respected Sydney law firm, providing expert legal services for over 70 years. They work with clients in franchising and a range of other industry sectors.

David Creais, Executive Lawyer at Bartier Perry is a commercial lawyer providing legal advice and support to clients that operate in franchising and other industries.

Carrie Peterson is a Senior Associate with Bartier Perry specialising in commercial litigation and dispute resolution. Carrie is also an Associate Member of the Insolvency Practitioners of Australia.